Friday, March 22, 2013

Bank Shot

Is the current chaos in Cyprus a harbinger for other countries?

It was a shock to a lot of people to hear that a country in the European Union was actually going to tax bank accounts, that is, confiscate a percentage of the money that people have in the bank. You quickly heard people in other European countries—and some in the United States—asking, could that happen here as well?

Well, of course, it’s possible. But it’s not very likely—at least in the immediate future. This is because Cyprus’s situation is different from most other countries. It is small and it has based much of its economy on banking. And it has set itself up as a haven for money belonging to wealthy people in other countries, notably Russia.

Cyprus’s problem was that there was really hardly any other place to go looking for the money other than in the bank accounts. And a lot of the money in Cypriot banks is considered dodgy because it is suspected of being there to avoid taxes in other countries and the EU was not inclined to dig into its own pockets to protect the assets of Russian oligarchs.

But there are some interesting and sobering lessons in all this for people in other countries. One is that the insistence (mainly by the International Monetary Fund) that depositors in Cypriot banks cough up money for the country’s bailout demonstrates that, when they need money, bureaucrats and functionaries can be quick to leave due process by the wayside. If there is dirty money in Cypriot banks, shouldn’t the owners of those accounts be prosecuted in court and fined accordingly? Instead, the government was pressured to confiscate money out of all accounts, regardless of whether the owners were crooks or merely hardworking people who had saved up for years.

The more important lesson, however, is a mathematical one. Originally, the government wanted to get the money from those who could best afford it and, presumably, therefore the most likely to have acquired it through questionable means. In other words, they were only going to tax accounts over €100,000. But to get the amount of money it needed, it would have had to set the rate at a whopping 18 percent. So, instead, the government came up with a scheme to tax accounts over €100,000 at 10 percent and those under €100,000 at 6 percent.

So the lesson is this. When the government talks about the wealthy paying “a bit more” to keep the government going, there isn’t really as much money there as you might think. If you are not bothered too much by the idea of higher taxes on the wealthy because your own taxes won’t be affected, you might want to consider the fact that you and others in the more average income brackets actually earn a lot more money (collectively) than the super-wealthy do. And when governments need money, they inevitably go where the money is.

What’s more, when taxes go high enough, they become self-defeating because the more money the government takes out of the private sector, the less money that is left for jobs in the private sector. This is because much of the money that is being paid in taxes would otherwise be invested in companies—especially by people in higher brackets. So fewer jobs translate to fewer tax revenues. And it’s taxes collected on people working in the private sector that subsidize people working in the public sector, so eventually those jobs (mainly at the state and local levels) get hit too.

And when income taxes don’t bring in enough money, well, who can blame a government that is running a huge deficit for looking around at other places to find money? Like bank accounts.

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